Thursday, September 14, 2006

TD Banknorth executives were downright gloomy during presentations to investor conferences in Canada and New York this week. The message: Consensus Wall Street forecasts for the company's profits were too high. Business expenses were up, and demand for loans was leveling off. Executives at Toronto-Dominion, the Canadian financial giant that owns 56 percent of TD Banknorth, were similarly downbeat on the prospects for earnings growth anytime soon at its US banking affiliate, headquartered in Portland, Maine.

TD Banknorth isn't doing business in a vacuum. The normal relationship between short-term and longer-term interest rates is upside down at the moment, squeezing most of the profit out of the lending business. Deposit rates have gone up much faster than loan rates. Meanwhile, bankers worry about a recession. They sweat over the sinking real estate market.

"It's our personality to be upfront," TD Banknorth chief executive Bill Ryan says about his company's business presentations. "I think we're probably a little more nervous than other people."

Nervous or not, TD Banknorth stands out in the current environment because it continues to spend serious money building up its franchise. Ryan had a mandate from Toronto-Dominion when the Canadians bought a controlling interest in his bank last year, and it was all about growth.

TD Banknorth soon moved into the New York area with its $1.9 billion purchase of New Jersey's Hudson United Bancorp. It followed that deal up with the acquisition of a second New Jersey bank. In both cases, TD Banknorth paid very full prices for the businesses it was buying.

Now, TD Banknorth is spending lots of money on advertising and other things to build its business in a new market. At a time when banks might be advised to pull in their horns, TD Banknorth has its checkbook out.

Interest-rate problems didn't sneak up on TD Banknorth. Executives have repeatedly restructured their balance sheet, protecting it against the dangers of interest rate shifts, but hurting the bank's short-term financial results in the process. Ryan did this so often he became known in banking circles as a serial restructurer.

Those were good long-term decisions, but created a string of short-term financial disappointments. TD Banknorth's performance seems likely to fall short of expectations again. TD Banknorth stock, which closed yesterday at $28.84, is down about 4 percent over the past year.

Analyst Mark Fitzgibbon of Sander O'Neill & Partners heard TD Banknorth's most recent warnings and cut his rating on the company's stock to "sell" on Tuesday. Among other reasons, he said, the company's earnings outlook was just too weak.

Another reason had to do with TD Banknorth's majority owner. Fitzgibbon said his hopes that Toronto-Dominion would buy out public stockholders who own the other 42 percent of TD Banknorth at a fat premium had faded.

That hints at a sticky perception problem for TD Banknorth and its majority owner. Toronto-Dominion can own up to 66 percent of TD Banknorth, but must negotiate with independent directors if it wants to buy the rest.

Most analysts think Toronto-Dominion will do just that, eventually, and decisions that create long-term value but drive down the fair price of TD Banknorth stock at the time of negotiation would seem to be in the Canadians' interest. Pressing ahead with expensive expansion plans while the banking environment goes into the tank could be one such case.

Ryan has a short answer to that idea: no way.

"We wouldn't sell in a downturn," he says. "We'd sell when we could get real value. Just because they make an offer, it doesn't mean we have to accept it."

Ryan also notes shareholders would have to approve any deal.

Ryan also says TD Banknorth will put the brakes on more big-ticket expansion, at least until business improves. "You could say maybe we're going to be dumb and just buy more banks," he says. "But we're not. We're going to be more disciplined."

In the meantime, everyday banking will be tougher. Just ask Bill Ryan. He's nervous.